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Assessing Less Restrictive Alternatives and Interbrand Competition in Epic v Apple

Geoff Manne, Dirk Auer & Lazar Radic — 1 April 2022

The International Center for Law & Economics (ICLE) filed an amicus brief on behalf of itself and 26 distinguished law & economics scholars with the 9th U.S. Circuit Court of Appeals in the hotly anticipated and intensely important Epic Games v Apple case.

A fantastic group of attorneys from White & Case generously assisted us with the writing and filing of the brief, including George Paul, Jack Pace, Gina Chiapetta, and Nicholas McGuire. The scholars who signed the brief are listed at the end of this post. A summary of the brief’s arguments follows. For some of our previous writings on the case, see here, here, here, and here.

Introduction

In Epic Games v. Apple, Epic challenged Apple’s prohibition of third-party app stores and in-app payments (IAP) systems from operating on its proprietary iOS platform as a violation of antitrust law. The U.S. District Court for the Northern District of California ruled against Epic, finding that Epic’s real concern is its own business interests in the face of Apple’s business model—in particular, the commission Apple charges for use of its IAP system—rather than harm to consumers and to competition more broadly.

Epic appealed to the 9th Circuit on several grounds. Our brief primarily addresses two of Epic’s arguments:

First, Epic takes issue with the district court’s proper finding that Apple’s procompetitive justifications outweigh the anticompetitive effects of Apple’s business model. But Epic’s case fails at step one of the rule-of-reason analysis, as it didn’t demonstrate that Apple’s app distribution and IAP practices caused the significant, market-wide, anticompetitive effects that the Supreme Court, in 2018’s Ohio v. American Express (“Amex”), deemed necessary to show anticompetitive harm in cases involving two-sided transaction markets (like Apple’s App Store).
Second, Epic argues that the theoretical existence of less restrictive alternatives (“LRA”) to Apple’s business model is sufficient to meet its burden under the rule of reason. But the reliance on LRA in this case is misplaced. Forcing Apple to adopt the “open” platform that Epic champions would reduce interbrand competition and improperly permit antitrust plaintiffs to commandeer the judiciary to modify routine business conduct any time a plaintiff’s attorney or district court can imagine a less restrictive version of a challenged practice—irrespective of whether the practice promotes consumer welfare. This is especially true in the context of two-sided platform businesses, where such an approach would sacrifice interbrand, systems-level competition for the sake of a superficial increase in competition among a small subset of platform users.

Competitive Effects in Two-Sided Markets

Two-sided markets connect distinct sets of users whose demands for the platform are interdependent—i.e., consumers’ demand for a platform increases as more products are available, and conversely, product developers’ demand for a platform increases as additional consumers use the platform, increasing the overall potential for transactions. As a result of these complex dynamics, conduct that may appear anticompetitive when considering the effects on only one set of customers may be entirely consistent with—and actually promote—healthy competition when examining the effects on both sides.

That’s why the Supreme Court recognized in Amex that it was improper to focus on only one side of a two-sided platform. And this holding doesn’t require adherence to the Court’s contentious finding of a two-sided relevant market in Amex. Indeed, even scholars highly critical of the Amex decision recognize the importance of considering effects on both sides of a two-sided platform.

While the district court did find that Epic demonstrated some anticompetitive effects, Epic’s evidence focused only on the effects that Apple’s conduct had on certain app developers; it failed to appropriately examine whether consumers were harmed overall. As Geoffrey Manne has observed, in two-sided markets, “some harm” is not the same thing as “competitively relevant harm.” Supracompetitive prices on one side do not tell us much about the existence or exercise of (harmful) market power in two-sided markets. As the Supreme Court held in Amex:

The fact that two-sided platforms charge one side a price that is below or above cost reflects differences in the two sides’ demand elasticity, not market power or anticompetitive pricing. Price increases on one side of the platform likewise do not suggest anticompetitive effects without some evidence that they have increased the overall cost of the platform’s services.

Without further evidence of the effect of Apple’s practices on consumers, no conclusions can be drawn about the competitive effects of Apple’s conduct.

Nor can an appropriate examination of anticompetitive effects ignore output. The ability to restrict output, after all, is what allows a monopolist to increase prices. Whereas price effects alone might appear predatory on one side of the market and supra-competitive on the other, output reflects what is happening in the market as a whole. It is therefore the most appropriate measure for antitrust law generally, and it is especially useful in two-sided markets, where asymmetrical price changes are of little use in determining anticompetitive effects.

Ultimately, the question before the court must be whether Apple’s overall pricing structure and business model reduces output, either by deterring app developers from participating in the market or by deterring users from purchasing apps (or iOS devices) as a consequence of the app-developer commission. The district court here noted that it could not ascertain whether Apple’s alleged restrictions had a “positive or negative impact on game transaction volume.”

Thus, Epic’s case fails at step one of the rule of reason analysis because it simply hasn’t demonstrated the requisite harm to competition.

Less Restrictive Alternatives and the Rule of Reason

But even if that weren’t the case, Epic’s claims also don’t make it past step three of the rule of reason analysis.

Epic’s appeal relies on theoretical “less restrictive alternatives” (LRA) to Apple’s business model, which highlights longstanding questions about the role and limits of LRA analysis under the rule of reason.

According to Epic, because the district court identified some anticompetitive effects on one side of the market, and because alternative business models could, in theory, be implemented to achieve the same procompetitive benefits as Apple’s current business model, the court should have ruled in Epic’s favor at step three.

There are several problems with this.

First, the existence of an LRA is irrelevant if anticompetitive harm has not been established, of course (as is the case here).

Nor does the fact that some hypothetically less restrictive alternative exists automatically render the conduct under consideration anticompetitive. As the Court held in Trinko, antitrust laws do not “give judges carte blanche to insist that a monopolist alter its way of doing business whenever some other approach might yield greater competition.”

While, following the Supreme Court’s recent Alston decision, LRA analysis may well be appropriate in some contexts to identify anticompetitive conduct in the face of procompetitive justifications, there is no holding (in either the 9th Circuit or the Supreme Court) requiring it in the context of two-sided markets. (Amex refers to LRA analysis as constituting step three, but because that case was resolved at step one, it must be viewed as mere dictum).And for good reason. In the context of two-sided platforms, an LRA approach would inevitably require courts to second guess the particular allocation of costs, prices, and product attributes across platform users. As Tom Nachbar writes:

Platform defendants, even if they are able to establish the general procompetitive justifications for charging above and below cost prices on the two sides of their platforms, will have to defend the precise combination of prices they have chosen [under an LRA approach] . . . . The relative difficulty of defending any particular allocation of costs will present considerable risk of destabilizing platform markets.

Moreover, LRAs—like the ones proposed by Epic—that are based on maximizing competitor effectiveness by “opening” an incumbent’s platform would convert the rule of reason into a regulatory tool that may not promote competition at all. As Alan Devlin deftly puts it:

This construction of antitrust law—that dominant companies must affirmatively support their fringe rivals’ ability to compete effectively—adopts a perspective of antitrust that is regulatory in nature. . . . [I]f one adopts the increasingly prevalent view that antitrust must facilitate unfettered access to markets, thus spurring free entry and expansion by incumbent rivals, the Sherman Act goes from being a prophylactic device aimed at protecting consumers against welfare-reducing acts to being a misplaced regulatory tool that potentially sacrifices both consumer welfare and efficiency in a misguided pursuit of more of both.

Open Platforms Are not Necessarily Less Restrictive Platforms

It is also important to note that Epic’s claimed LRAs are neither viable alternatives nor actually “less restrictive.” Epic’s proposal would essentially turn Apple’s iOS into an open platform more similar to Google’s Android, its largest market competitor.

“Open” and “closed” platforms both have distinct benefits and drawbacks; one is not inherently superior to the other. Closed proprietary platforms like Apple’s iOS create incentives for companies to internalize positive indirect network effects, which can lead to higher levels of product variety, user adoption, and total social welfare. As Andrei Hagiu has written:

A proprietary platform may in fact induce more developer entry (i.e., product variety), user adoption and higher total social welfare than an open platform.

For example, by filtering which apps can access the App Store and precluding some transactions from taking place on it, a closed or semi-closed platform like Apple’s may ultimately increase the number of apps and transactions on its platform, where doing so makes the iOS ecosystem more attractive to both consumers and developers.

Any analysis of a supposedly less restrictive alternative to Apple’s “walled garden” model thus needs to account for the tradeoffs between open and closed platforms, and not merely assume that “open” equates to “good,” and “closed” to “bad.”

Further, such analysis also must consider tradeoffs among consumers and among developers. More vigilant users might be better served by an “open” platform because they find it easier to avoid harmful content; less vigilant ones may want more active assistance in screening for malware, spyware, or software that simply isn’t optimized for the user’s device. There are similar tradeoffs on the developer side: Apple’s model lowers the cost to join the App store, which particularly benefits smaller developers and those whose apps fall outside the popular gaming sector. In a nutshell, the IAP fee cross-subsidizes the delivery of services to the approximately 80% of apps on the App Store that are free and pay no IAP fees.

In fact, the overwhelming irony of Epic’s proposed approach is that Apple could avoid condemnation if it made its overall platform more restrictive. If, for example, Apple had not adopted an App Store model and offered a completely closed and fully integrated device, there would be no question of relative costs and benefits imposed on independent app developers; there would be no independent developers on the iOS platform at all.

Thus, Epic’s proposed LRA approach, which amounts to converting iOS to an open platform, proves too much. It would enable any contractual or employment relationship for a complementary product or service to be challenged because it could be offered through a “less restrictive” open market mechanism—in other words, that any integrated firm should be converted into an open platform.

At least since the Supreme Court’s seminal 1977 Sylvania ruling, U.S. antitrust law has been unequivocal in its preference for interbrand over intrabrand competition. Paradoxically, turning a closed platform into an open one (as Epic intends) would, under the guise of protecting competition, actually destroy competition where it matters most: at the interbrand, systems level.

Conclusion

Forcing Apple to adopt the “open” platform that Epic champions would reduce interbrand competition among platform providers. It would also more broadly allow antitrust plaintiffs to insist the courts modify routine business conduct any time a plaintiff’s attorney or district court can imagine a less restrictive version of a challenged practice, regardless of whether that practice nevertheless promotes consumer welfare. In the context of two-sided platform businesses, this would mean sacrificing systems-level competition for the sake of a superficial increase in competition among a small subset of platform users.

The bottom line is that an order compelling Apple to allow competing app stores would require the company to change the way in which it monetizes the App Store. This might have far-reaching distributional consequences for both groups— consumers and distributors. Courts (and, obviously, competitors) are ill-suited to act as social planners and to balance out such complex tradeoffs, especially in the absence of clear anticompetitive harm and the presence of plausible procompetitive benefits.

Amici Scholars Signing on to the Brief

(The ICLE brief presents the views of the individual signers listed below. Institutions are listed for identification purposes only.)

Alden Abbott Senior Research Fellow, Mercatus Center, George Mason University Former General Counsel, U.S. Federal Trade Commission	Ben Klein Professor of Economics Emeritus, University of California Los Angeles
Thomas C. Arthur L. Q. C. Lamar Professor of Law, Emory University School of Law	Peter Klein Professor of Entrepreneurship and Corporate Innovation, Baylor University, Hankamer School of Business
Dirk Auer Director of Competition Policy, International Center for Law & Economics Adjunct Professor, University of Liège (Belgium)	Jonathan Klick Charles A. Heimbold, Jr. Professor of Law, University of Pennsylvania Carey Law School
Jonathan M. Barnett Torrey H. Webb Professor of Law, University of Southern California, Gould School of Law	Daniel Lyons Professor of Law, Boston College Law School
Donald J. Boudreaux Professor of Economics, former Economics Department Chair, George Mason University	Geoffrey A. Manne President and Founder, International Center for Law & Economics Distinguished Fellow, Northwestern University Center on Law, Business & Economics
Giuseppe Colangelo Jean Monnet Chair in European Innovation Policy and Associate Professor of Competition Law and Economics, University of Basilicata and Libera Università Internazionale degli Studi Sociali	Francisco Marcos Associate Professor of Law, IE University Law School (Spain)
Anthony Dukes Chair and Professor of Marketing, University of Southern California, Marshall School of Business	Scott E. Masten Professor of Business Economics and Public Policy, University of Michigan, Ross Business School
Richard A. Epstein Laurence A. Tisch Professor of Law, New York University, School of Law James Parker Hall Distinguished Service Professor of Law Emeritus, University of Chicago Law School	Alan J. Meese Ball Professor of Law, College of William & Mary Law School
Vivek Ghosal Economics Department Chair and Virginia and Lloyd W. Rittenhouse Professor of Economics, Rensselaer Polytechnic Institute	Igor Nikolic Research Fellow, Robert Schuman Centre for Advanced Studies, European University Institute (Italy)
Janice Hauge Professor of Economics, University of North Texas	Paul H. Rubin Samuel Candler Dobbs Professor of Economics Emeritus, Emory University
Justin (Gus) Hurwitz Professor of Law, University of Nebraska College of Law	Vernon L. Smith George L. Argyros Endowed Chair in Finance and Economics and Professor of Economics and Law, Chapman University Nobel Laureate in Economics (2002)
Michael S. Jacobs Distinguished Research Professor of Law Emeritus, DePaul University College of Law	Michael Sykuta Associate Professor of Economics, University of Missouri
Mark A. Jamison Gerald Gunter Professor of the Public Utility Research Center, University of Florida, Warrington College of Business	Alexander “Sasha” Volokh Associate Professor of Law, Emory University School of Law

In Antitrust & Competition, Apple, Exclusionary Conduct, Exclusive Dealing, Platforms, Supreme Court, Truth on the Market, Tying, Vertical Restraints antitrust, App Store, Apple, Epic v. Apple, iOS, less restrictive alternatives, platforms, walled garden

In Apple v Epic, 9th Circuit Should Remember that Antitrust Forbids Enhancing, not Exercising, Market Power

Thom Lambert — 1 April 2022

On March 31, I and several other law and economics scholars filed an amicus brief in Epic Games v. Apple, which is on appeal to the U.S. Court of Appeals for Ninth Circuit. In this post, I summarize the central arguments of the brief, which was joined by Alden Abbott, Henry Butler, Alan Meese, Aurelien Portuese, and John Yun and prepared with the assistance of Don Falk of Schaerr Jaffe LLP.

First, some background for readers who haven’t followed the case.

Epic, maker of the popular Fortnite video game, brought antitrust challenges against two policies Apple enforces against developers of third-party apps that run on iOS, the mobile operating system for Apple’s popular iPhones and iPads. One policy requires that all iOS apps be distributed through Apple’s own App Store. The other requires that any purchases of digital goods made while using an iOS app utilize Apple’s In App Purchase system (IAP). Apple collects a share of the revenue from sales made through its App Store and using IAP, so these two policies provide a way for it to monetize its innovative app platform.

Epic maintains that Apple’s app policies violate the federal antitrust laws. Following a trial, the district court disagreed, though it condemned another of Apple’s policies under California state law. Epic has appealed the antitrust rulings against it.

My fellow amici and I submitted our brief in support of Apple to draw the Ninth Circuit’s attention to a distinction that is crucial to ensuring that antitrust promotes long-term consumer welfare: the distinction between the mere extraction of surplus through the exercise of market power and the enhancement of market power via the weakening of competitive constraints.

The central claim of our brief is that Epic’s antitrust challenges to Apple’s app store policies should fail because Epic has not shown that the policies enhance Apple’s market power in any market. Moreover, condemnation of the practices would likely induce Apple to use its legitimately obtained market power to extract surplus in a different way that would leave consumers worse off than they are under the status quo.

Mere Surplus Extraction vs. Market Power Extension

As the Supreme Court has observed, “Congress designed the Sherman Act as a ‘consumer welfare prescription.’” The Act endeavors to protect consumers from harm resulting from “market power,” which is the ability of a firm lacking competitive constraints to enhance its profits by reducing its output—either quantitively or qualitatively—from the level that would persist if the firm faced vigorous competition. A monopolist, for example, might cut back on the quantity it produces (to drive up market price) or it might skimp on quality (to enhance its per-unit profit margin). A firm facing vigorous competition, by contrast, couldn’t raise market price simply by reducing its own production, and it would lose significant sales to rivals if it raised its own price or unilaterally cut back on product quality. Market power thus stems from deficient competition.

As Dennis Carlton and Ken Heyer have observed, two different types of market power-related business behavior may injure consumers and are thus candidates for antitrust prohibition. One is an exercise of market power: an action whereby a firm lacking competitive constraints increases its returns by constricting its output so as to raise price or otherwise earn higher profit margins. When a firm engages in this sort of conduct, it extracts a greater proportion of the wealth, or “surplus,” generated by its transactions with its customers.

Every voluntary transaction between a buyer and seller creates surplus, which is the difference between the subjective value the consumer attaches to an item produced and the cost of producing and distributing it. Price and other contract terms determine how that surplus is allocated between the buyer and the seller. When a firm lacking competitive constraints exercises its market power by, say, raising price, it extracts for itself a greater proportion of the surplus generated by its sale.

The other sort of market power-related business behavior involves an effort by a firm to enhance its market power by weakening competitive constraints. For example, when a firm engages in unreasonably exclusionary conduct that drives its rivals from the market or increases their costs so as to render them less formidable competitors, its market power grows.

U.S. antitrust law treats these two types of market power-related conduct differently. It forbids behavior that enhances market power and injures consumers, but it permits actions that merely exercise legitimately obtained market power without somehow enhancing it. For example, while charging a monopoly price creates immediate consumer harm by extracting for the monopolist a greater share of the surplus created by the transaction, the Supreme Court observed in Trinko that “[t]he mere possession of monopoly power, and the concomitant charging of monopoly prices, is not . . . unlawful.” (See also linkLine: “Simply possessing monopoly power and charging monopoly prices does not violate [Sherman Act] § 2….”)

Courts have similarly refused to condemn mere exercises of market power in cases involving surplus-extractive arrangements more complicated than simple monopoly pricing. For example, in its Independent Ink decision, the U.S. Supreme Court expressly declined to adopt a rule that would have effectively banned “metering” tie-ins.

In a metering tie-in, a seller with market power on some unique product that is used with a competitively supplied complement that is consumed in varying amounts—say, a highly unique printer that uses standard ink—reduces the price of its unique product (the printer), requires buyers to also purchase from it their requirements of the complement (the ink), and then charges a supracompetitive price for the latter product. This allows the seller to charge higher effective prices to high-volume users of its unique tying product (buyers who use lots of ink) and lower prices to lower-volume users.

Assuming buyers’ use of the unique product correlates with the value they ascribe to it, a metering tie-in allows the seller to price discriminate, charging higher prices to buyers who value its unique product more. This allows the seller to extract more of the surplus generated by sales of its product, but it in no way extends the seller’s market power.

In refusing to adopt a rule that would have condemned most metering tie-ins, the Independent Ink Court observed that “it is generally recognized that [price discrimination] . . . occurs in fully competitive markets” and that tying arrangements involving requirements ties may be “fully consistent with a free, competitive market.” The Court thus reasoned that mere price discrimination and surplus extraction, even when accomplished through some sort of contractual arrangement like a tie-in, are not by themselves anticompetitive harms warranting antitrust’s condemnation.

The Ninth Circuit has similarly recognized that conduct that exercises market power to extract surplus but does not somehow enhance that power does not create antitrust liability. In Qualcomm, the court refused to condemn the chipmaker’s “no license, no chips” policy, which enabled it to enhance its profits by earning royalties on original equipment manufacturers’ sales of their high-priced products.

In reversing the district court’s judgment in favor of the FTC, the Ninth Circuit conceded that Qualcomm’s policies were novel and that they allowed it to enhance its profits by extracting greater surplus. The court refused to condemn the policies, however, because they did not injure competition by weakening competitive constraints:

This is not to say that Qualcomm’s “no license, no chips” policy is not “unique in the industry” (it is), or that the policy is not designed to maximize Qualcomm’s profits (Qualcomm has admitted as much). But profit-seeking behavior alone is insufficient to establish antitrust liability. As the Supreme Court stated in Trinko, the opportunity to charge monopoly prices “is an important element of the free-market system” and “is what attracts ‘business acumen’ in the first place; it induces risk taking that produces innovation and economic growth.”

The Qualcomm court’s reference to Trinko highlights one reason courts should not condemn exercises of market power that merely extract surplus without enhancing market power: allowing such surplus extraction furthers dynamic efficiency—welfare gain that accrues over time from the development of new and improved products and services.

Dynamic efficiency results from innovation, which entails costs and risks. Firms are more willing to incur those costs and risks if their potential payoff is higher, and an innovative firm’s ability to earn supracompetitive profits off its “better mousetrap” enhances its payoff.

Allowing innovators to extract such profits also helps address the fact most of the benefits of product innovation inure to people other than the innovator. Private actors often engage in suboptimal levels of behaviors that produce such benefit spillovers, or “positive externalities,” because they bear all the costs of those behaviors but capture just a fraction of the benefit produced. By enhancing the benefits innovators capture from their innovative efforts, allowing non-power-enhancing surplus extraction helps generate a closer-to-optimal level of innovative activity.

Not only do supracompetitive profits extracted through the exercise of legitimately obtained market power motivate innovation, they also enable it by helping to fund innovative efforts. Whereas businesses that are forced by competition to charge prices near their incremental cost must secure external funding for significant research and development (R&D) efforts, firms collecting supracompetitive returns can finance R&D internally. Indeed, of the top fifteen global spenders on R&D in 2018, eleven were either technology firms accused of possessing monopoly power (#1 Apple, #2 Alphabet/Google, #5 Intel, #6 Microsoft, #7 Apple, and #14 Facebook) or pharmaceutical companies whose patent protections insulate their products from competition and enable supracompetitive pricing (#8 Roche, #9 Johnson & Johnson, #10 Merck, #12 Novartis, and #15 Pfizer).

In addition to fostering dynamic efficiency by motivating and enabling innovative efforts, a policy acquitting non-power-enhancing exercises of market power allows courts to avoid an intractable question: which instances of mere surplus extraction should be precluded?

Precluding all instances of surplus extraction by firms with market power would conflict with precedents like Trinko and linkLine (which say that legitimate monopolists may legally charge monopoly prices) and would be impracticable given the ubiquity of above-cost pricing in niche and brand-differentiated markets.

A rule precluding surplus extraction when accomplished by a practice more complicated that simple monopoly pricing—say, some practice that allows price discrimination against buyers who highly value a product—would be both arbitrary and backward. The rule would be arbitrary because allowing supracompetitive profits from legitimately obtained market power motivates and enables innovation regardless of the means used to extract surplus. The rule would be backward because, while simple monopoly pricing always reduces overall market output (as output-reduction is the very means by which the producer causes price to rise), more complicated methods of extracting surplus, such as metering tie-ins, often enhance market output and overall social welfare.

A third possibility would be to preclude exercising market power to extract more surplus than is necessary to motivate and enable innovation. That position, however, would require courts to determine how much surplus extraction is required to induce innovative efforts. Courts are poorly positioned to perform such a task, and their inevitable mistakes could significantly chill entrepreneurial activity.

Consider, for example, a firm contemplating a $5 million investment that might return up to $50 million. Suppose the managers of the firm weighed expected costs and benefits and decided the risky gamble was just worth taking. If the gamble paid off but a court stepped in and capped the firm’s returns at $20 million—a seemingly generous quadrupling of the firm’s investment—future firms in the same position would not make similar investments. After all, the firm here thought this gamble was just barely worth taking, given the high risk of failure, when available returns were $50 million.

In the end, then, the best policy is to draw the line as both the U.S. Supreme Court and the Ninth Circuit have done: Whereas enhancements of market power are forbidden, merely exercising legitimately obtained market power to extract surplus is permitted.

Apple’s Policies Do Not Enhance Its Market Power

Under the legal approach described above, the two Apple policies Epic has challenged do not give rise to antitrust liability. While the policies may boost Apple’s profits by facilitating its extraction of surplus from app transactions on its mobile devices, they do not enhance Apple’s market power in any conceivable market.

As the creator and custodian of the iOS operating system, Apple has the ability to control which applications will run on its iPhones and iPads. Developers cannot produce operable iOS apps unless Apple grants them access to the Application Programming Interfaces (APIs) required to enable the functionality of the operating system and hardware. In addition, Apple can require developers to obtain digital certificates that will enable their iOS apps to operate. As the district court observed, “no certificate means the code will not run.”

Because Apple controls which apps will work on the operating system it created and maintains, Apple could collect the same proportion of surplus it currently extracts from iOS app sales and in-app purchases on iOS apps even without the policies Epic is challenging. It could simply withhold access to the APIs or digital certificates needed to run iOS apps unless developers promised to pay it 30% of their revenues from app sales and in-app purchases of digital goods.

This means that the challenged policies do not give Apple any power it doesn’t already possess in the putative markets Epic identified: the markets for “iOS app distribution” and “iOS in-app payment processing.”

The district court rejected those market definitions on the ground that Epic had not established cognizable aftermarkets for iOS-specific services. It defined the relevant market instead as “mobile gaming transactions.” But no matter. The challenged policies would not enhance Apple’s market power in that broader market either.

In “mobile gaming transactions” involving non-iOS (e.g., Android) mobile apps, Apple’s policies give it no power at all. Apple doesn’t distribute non-iOS apps or process in-app payments on such apps. Moreover, even if Apple were to being doing so—say, by distributing Android apps in its App Store or allowing producers of Android apps to include IAP as their in-app payment system—it is implausible that Apple’s policies would allow it to gain new market power. There are giant, formidable competitors in non-iOS app distribution (e.g., Google’s Play Store) and in payment processing for non-iOS in-app purchases (e.g., Google Play Billing). It is inconceivable that Apple’s policies would allow it to usurp so much scale from those rivals that Apple could gain market power over non-iOS mobile gaming transactions.

That leaves only the iOS segment of the mobile gaming transactions market. And, as we have just seen, Apple’s policies give it no new power to extract surplus from those transactions; because it controls access to iOS, it could do so using other means.

Nor do the challenged policies enable Apple to maintain its market power in any conceivable market. This is not a situation like Microsoft where a firm in a market adjacent to a monopolist’s could somehow pose a challenge to that monopolist, and the monopolist nips the potential competition in the bud by reducing the potential rival’s scale. There is no evidence in the record to support the (implausible) notion that rival iOS app stores or in-app payment processing systems could ever evolve in a manner that would pose a challenge to Apple’s position in mobile devices, mobile operating systems, or any other market in which it conceivably has market power.

Epic might retort that but for the challenged policies, rivals could challenge Apple’s market share in iOS app distribution and in-app purchase processing. Rivals could not, however, challenge Apple’s market power in such markets, as that power stems from its control of iOS. The challenged policies therefore do not enable Apple to shore up any existing market power.

Alternative Means of Extracting Surplus Would Likely Reduce Consumer Welfare

Because the policies Epic has challenged are not the source of Apple’s ability to extract surplus from iOS app transactions, judicial condemnation of the policies would likely induce Apple to extract surplus using different means. Changing how it earns profits off iOS app usage, however, would likely leave consumers worse off than they are under the status quo.

Apple could simply charge third-party app developers a flat fee for access to the APIs needed to produce operable iOS apps but then allow them to distribute their apps and process in-app payments however they choose. Such an approach would allow Apple to monetize its innovative app platform while permitting competition among providers of iOS app distribution and in-app payment processing services. Relative to the status quo, though, such a model would likely reduce consumer welfare by:

Reducing the number of free and niche apps,as app developers could no longer avoid a fee to Apple by adopting a free (likely ad-supported) business model, and producers of niche apps may not generate enough revenue to justify Apple’s flat fee;
Raising business risks for app developers, who, if Apple cannot earn incremental revenue off sales and use of their apps, may face a greater likelihood that the functionality of those apps will be incorporated into future versions of iOS;
Reducing Apple’s incentive to improve iOS and its mobile devices, as eliminating Apple’s incremental revenue from app usage reduces its motivation to make costly enhancements that keep users on their iPhones and iPads;
Raising the price of iPhones and iPads and generating deadweight loss, as Apple could no longer charge higher effective prices to people who use apps more heavily and would thus likely hike up its device prices, driving marginal consumers from the market; and
Reducing user privacy and security, as jettisoning a closed app distribution model (App Store only) would impair Apple’s ability to screen iOS apps for features and bugs that create security and privacy risks.

An alternative approach—one that would avoid many of the downsides just stated by allowing Apple to continue earning incremental revenue off iOS app usage—would be for Apple to charge app developers a revenue-based fee for access to the APIs and other amenities needed to produce operable iOS apps. That approach, however, would create other costs that would likely leave consumers worse off than they are under the status quo.

The policies Epic has challenged allow Apple to collect a share of revenues from iOS app transactions immediately at the point of sale. Replacing those policies with a revenue-based API license system would require Apple to incur additional costs of collecting revenues and ensuring that app developers are accurately reporting them. In order to extract the same surplus it currently collects—and to which it is entitled given its legitimately obtained market power—Apple would have to raise its revenue-sharing percentage above its current commission rate to cover its added collection and auditing costs.

The fact that Apple has elected not to adopt this alternative means of collecting the revenues to which it is entitled suggests that the added costs of moving to the alternative approach (extra collection and auditing costs) would exceed any additional consumer benefit such a move would produce. Because Apple can collect the same revenue percentage from app transactions two different ways, it has an incentive to select the approach that maximizes iOS app transaction revenues. That is the approach that creates the greatest value for consumers and also for Apple.

If Apple believed that the benefits to app users of competition in app distribution and in-app payment processing would exceed the extra costs of collection and auditing, it would have every incentive to switch to a revenue-based licensing regime and increase its revenue share enough to cover its added collection and auditing costs. As such an approach would enhance the net value consumers receive when buying apps and making in-app purchases, it would raise overall app revenues, boosting Apple’s bottom line. The fact that Apple has not gone in this direction, then, suggests that it does not believe consumers would receive greater benefit under the alternative system. Apple might be wrong, of course. But it has a strong motivation to make the consumer welfare-enhancing decision here, as doing so maximizes its own profits.

The policies Epic has challenged do not enhance or shore up Apple’s market power, a salutary pre-requisite to antitrust liability. Furthermore, condemning the policies would likely lead Apple to monetize its innovative app platform in a manner that would reduce consumer welfare relative to the status quo. The Ninth Circuit should therefore affirm the district court’s rejection of Epic’s antitrust claims.

Mandatory Interoperability Is Not a ‘Super Tool’ for Platform Competition

Sam Bowman — 29 November 2021

On both sides of the Atlantic, 2021 has seen legislative and regulatory proposals to mandate that various digital services be made interoperable with others. Several bills to do so have been proposed in Congress; the EU’s proposed Digital Markets Act would mandate interoperability in certain contexts for “gatekeeper” platforms; and the UK’s competition regulator will be given powers to require interoperability as part of a suite of “pro-competitive interventions” that are hoped to increase competition in digital markets.

The European Commission plans to require Apple to use USB-C charging ports on iPhones to allow interoperability among different chargers (to save, the Commission estimates, two grams of waste per-European per-year). Interoperability demands for forms of interoperability have been at the center of at least two major lawsuits: Epic’s case against Apple and a separate lawsuit against Apple by the app called Coronavirus Reporter. In July, a group of pro-intervention academics published a white paper calling interoperability “the ‘Super Tool’ of Digital Platform Governance.”

What is meant by the term “interoperability” varies widely. It can refer to relatively narrow interventions in which user data from one service is made directly portable to other services, rather than the user having to download and later re-upload it. At the other end of the spectrum, it could mean regulations to require virtually any vertical integration be unwound. (Should a Tesla’s engine be “interoperable” with the chassis of a Land Rover?) And in between are various proposals for specific applications of interoperability—some product working with another made by another company.

Why Isn’t Everything Interoperable?

The world is filled with examples of interoperability that arose through the (often voluntary) adoption of standards. Credit card companies oversee massive interoperable payments networks; screwdrivers are interoperable with screws made by other manufacturers, although different standards exist; many U.S. colleges accept credits earned at other accredited institutions. The containerization revolution in shipping is an example of interoperability leading to enormous efficiency gains, with a government subsidy to encourage the adoption of a single standard.

And interoperability can emerge over time. Microsoft Word used to be maddeningly non-interoperable with other word processors. Once OpenOffice entered the market, Microsoft patched its product to support OpenOffice files; Word documents now work slightly better with products like Google Docs, as well.

But there are also lots of things that could be interoperable but aren’t, like the Tesla motors that can’t easily be removed and added to other vehicles. The charging cases for Apple’s AirPods and Sony’s wireless earbuds could, in principle, be shaped to be interoperable. Medical records could, in principle, be standardized and made interoperable among healthcare providers, and it’s easy to imagine some of the benefits that could come from being able to plug your medical history into apps like MyFitnessPal and Apple Health. Keurig pods could, in principle, be interoperable with Nespresso machines. Your front door keys could, in principle, be made interoperable with my front door lock.

The reason not everything is interoperable like this is because interoperability comes with costs as well as benefits. It may be worth letting different earbuds have different designs because, while it means we sacrifice easy interoperability, we gain the ability for better designs to be brought to market and for consumers to have choice among different kinds. We may find that, while digital health records are wonderful in theory, the compliance costs of a standardized format might outweigh those benefits.

Manufacturers may choose to sell an expensive device with a relatively cheap upfront price tag, relying on consumer “lock in” for a stream of supplies and updates to finance the “full” price over time, provided the consumer likes it enough to keep using it.

Interoperability can remove a layer of security. I don’t want my bank account to be interoperable with any payments app, because it increases the risk of getting scammed. What I like about my front door lock is precisely that it isn’t interoperable with anyone else’s key. Lots of people complain about popular Twitter accounts being obnoxious, rabble-rousing, and stupid; it’s not difficult to imagine the benefits of a new, similar service that wanted everyone to start from the same level and so did not allow users to carry their old Twitter following with them.

There thus may be particular costs that prevent interoperability from being worth the tradeoff, such as that:

It might be too costly to implement and/or maintain.
It might prescribe a certain product design and prevent experimentation and innovation.
It might add too much complexity and/or confusion for users, who may prefer not to have certain choices.
It might increase the risk of something not working, or of security breaches.
It might prevent certain pricing models that increase output.
It might compromise some element of the product or service that benefits specifically from not being interoperable.

In a market that is functioning reasonably well, we should be able to assume that competition and consumer choice will discover the desirable degree of interoperability among different products. If there are benefits to making your product interoperable with others that outweigh the costs of doing so, that should give you an advantage over competitors and allow you to compete them away. If the costs outweigh the benefits, the opposite will happen—consumers will choose products that are not interoperable with each other.

In short, we cannot infer from the absence of interoperability that something is wrong, since we frequently observe that the costs of interoperability outweigh the benefits.

Of course, markets do not always lead to optimal outcomes. In cases where a market is “failing”—e.g., because competition is obstructed, or because there are important externalities that are not accounted for by the market’s prices—certain goods may be under-provided. In the case of interoperability, this can happen if firms struggle to coordinate upon a single standard, or because firms’ incentives to establish a standard are not aligned with the social optimum (i.e., interoperability might be optimal and fail to emerge, or vice versa).

But the analysis cannot stop here: just because a market might not be functioning well and does not currently provide some form of interoperability, we cannot assume that if it was functioning well that it would provide interoperability.

Interoperability for Digital Platforms

Since we know that many clearly functional markets and products do not provide all forms of interoperability that we could imagine them providing, it is perfectly possible that many badly functioning markets and products would still not provide interoperability, even if they did not suffer from whatever has obstructed competition or effective coordination in that market. In these cases, imposing interoperability would destroy value.

It would therefore be a mistake to assume that more interoperability in digital markets would be better, even if you believe that those digital markets suffer from too little competition. Let’s say, for the sake of argument, that Facebook/Meta has market power that allows it to keep its subsidiary WhatsApp from being interoperable with other competing services. Even then, we still would not know if WhatsApp users would want that interoperability, given the trade-offs.

A look at smaller competitors like Telegram and Signal, which we have no reason to believe have market power, demonstrates that they also are not interoperable with other messaging services. Signal is run by a nonprofit, and thus has little incentive to obstruct users for the sake of market power. Why does it not provide interoperability? I don’t know, but I would speculate that the security risks and technical costs of doing so outweigh the expected benefit to Signal’s users. If that is true, it seems strange to assume away the potential costs of making WhatsApp interoperable, especially if those costs may relate to things like security or product design.

Interoperability and Contact-Tracing Apps

A full consideration of the trade-offs is also necessary to evaluate the lawsuit that Coronavirus Reporter filed against Apple. Coronavirus Reporter was a COVID-19 contact-tracing app that Apple rejected from the App Store in March 2020. Its makers are now suing Apple for, they say, stifling competition in the contact-tracing market. Apple’s defense is that it only allowed COVID-19 apps from “recognised entities such as government organisations, health-focused NGOs, companies deeply credentialed in health issues, and medical or educational institutions.” In effect, by barring it from the App Store, and offering no other way to install the app, Apple denied Coronavirus Reporter interoperability with the iPhone. Coronavirus Reporter argues it should be punished for doing so.

No doubt, Apple’s decision did reduce competition among COVID-19 contact tracing apps. But increasing competition among COVID-19 contact-tracing apps via mandatory interoperability might have costs in other parts of the market. It might, for instance, confuse users who would like a very straightforward way to download their country’s official contact-tracing app. Or it might require access to certain data that users might not want to share, preferring to let an intermediary like Apple decide for them. Narrowing choice like this can be valuable, since it means individual users don’t have to research every single possible option every time they buy or use some product. If you don’t believe me, turn off your spam filter for a few days and see how you feel.

In this case, the potential costs of the access that Coronavirus Reporter wants are obvious: while it may have had the best contact-tracing service in the world, sorting it from other less reliable and/or scrupulous apps may have been difficult and the risk to users may have outweighed the benefits. As Apple and Facebook/Meta constantly point out, the security risks involved in making their services more interoperable are not trivial.

It isn’t competition among COVID-19 apps that is important, per se. As ever, competition is a means to an end, and maximizing it in one context—via, say, mandatory interoperability—cannot be judged without knowing the trade-offs that maximization requires. Even if we thought of Apple as a monopolist over iPhone users—ignoring the fact that Apple’s iPhones obviously are substitutable with Android devices to a significant degree—it wouldn’t follow that the more interoperability, the better.

A ‘Super Tool’ for Digital Market Intervention?

The Coronavirus Reporter example may feel like an “easy” case for opponents of mandatory interoperability. Of course we don’t want anything calling itself a COVID-19 app to have totally open access to people’s iPhones! But what’s vexing about mandatory interoperability is that it’s very hard to sort the sensible applications from the silly ones, and most proposals don’t even try. The leading U.S. House proposal for mandatory interoperability, the ACCESS Act, would require that platforms “maintain a set of transparent, third-party-accessible interfaces (including application programming interfaces) to facilitate and maintain interoperability with a competing business or a potential competing business,” based on APIs designed by the Federal Trade Commission.

The only nod to the costs of this requirement are provisions that further require platforms to set “reasonably necessary” security standards, and a provision to allow the removal of third-party apps that don’t “reasonably secure” user data. No other costs of mandatory interoperability are acknowledged at all.

The same goes for the even more substantive proposals for mandatory interoperability. Released in July 2021, “Equitable Interoperability: The ‘Super Tool’ of Digital Platform Governance” is co-authored by some of the most esteemed competition economists in the business. While it details obscure points about matters like how chat groups might work across interoperable chat services, it is virtually silent on any of the costs or trade-offs of its proposals. Indeed, the first “risk” the report identifies is that regulators might be too slow to impose interoperability in certain cases! It reads like interoperability has been asked what its biggest weaknesses are in a job interview.

Where the report does acknowledge trade-offs—for example, interoperability making it harder for a service to monetize its user base, who can just bypass ads on the service by using a third-party app that blocks them—it just says that the overseeing “technical committee or regulator may wish to create conduct rules” to decide.

Ditto with the objection that mandatory interoperability might limit differentiation among competitors – like, for example, how imposing the old micro-USB standard on Apple might have stopped us from getting the Lightning port. Again, they punt: “We recommend that the regulator or the technical committee consult regularly with market participants and allow the regulated interface to evolve in response to market needs.”

But if we could entrust this degree of product design to regulators, weighing the costs of a feature against its benefits, we wouldn’t need markets or competition at all. And the report just assumes away many other obvious costs: “the working hypothesis we use in this paper is that the governance issues are more of a challenge than the technical issues.” Despite its illustrious panel of co-authors, the report fails to grapple with the most basic counterargument possible: its proposals have costs as well as benefits, and it’s not straightforward to decide which is bigger than which.

Strangely, the report includes a section that “looks ahead” to “Google’s Dominance Over the Internet of Things.” This, the report says, stems from the company’s “market power in device OS’s [that] allows Google to set licensing conditions that position Google to maintain its monopoly and extract rents from these industries in future.” The report claims this inevitability can only be avoided by imposing interoperability requirements.

The authors completely ignore that a smart home interoperability standard has already been developed, backed by a group of 170 companies that include Amazon, Apple, and Google, as well as SmartThings, IKEA, and Samsung. It is open source and, in principle, should allow a Google Home speaker to work with, say, an Amazon Ring doorbell. In markets where consumers really do want interoperability, it can emerge without a regulator requiring it, even if some companies have apparent incentive not to offer it.

If You Build It, They Still Might Not Come

Much of the case for interoperability interventions rests on the presumption that the benefits will be substantial. It’s hard to know how powerful network effects really are in preventing new competitors from entering digital markets, and none of the more substantial reports cited by the “Super Tool” report really try.

In reality, the cost of switching among services or products is never zero. Simply pointing out that particular costs—such as network effect-created switching costs—happen to exist doesn’t tell us much. In practice, many users are happy to multi-home across different services. I use at least eight different messaging apps every day (Signal, WhatsApp, Twitter DMs, Slack, Discord, Instagram DMs, Google Chat, and iMessage/SMS). I don’t find it particularly costly to switch among them, and have been happy to adopt new services that seemed to offer something new. Discord has built a thriving 150-million-user business, despite these switching costs. What if people don’t actually care if their Instagram DMs are interoperable with Slack?

None of this is to argue that interoperability cannot be useful. But it is often overhyped, and it is difficult to do in practice (because of those annoying trade-offs). After nearly five years, Open Banking in the UK—cited by the “Super Tool” report as an example of what it wants for other markets—still isn’t really finished yet in terms of functionality. It has required an enormous amount of time and investment by all parties involved and has yet to deliver obvious benefits in terms of consumer outcomes, let alone greater competition among the current accounts that have been made interoperable with other services. (My analysis of the lessons of Open Banking for other services is here.) Phone number portability, which is also cited by the “Super Tool” report, is another example of how hard even simple interventions can be to get right.

The world is filled with cases where we could imagine some benefits from interoperability but choose not to have them, because the costs are greater still. None of this is to say that interoperability mandates can never work, but their benefits can be oversold, especially when their costs are ignored. Many of mandatory interoperability’s more enthusiastic advocates should remember that such trade-offs exist—even for policies they really, really like.

Antitrust Dystopia and Antitrust Nostalgia

Geoffrey Manne & Dirk Auer — 9 September 2021

The dystopian novel is a powerful literary genre. It has given us such masterpieces as Nineteen Eighty-Four, Brave New World, and Fahrenheit 451. Though these novels often shed light on the risks of contemporary society and the zeitgeist of the era in which they were written, they also almost always systematically overshoot the mark (intentionally or not) and severely underestimate the radical improvements that stem from the technologies (or other causes) that they fear.

But dystopias are not just a literary phenomenon; they are also a powerful force in policy circles. This is epitomized by influential publications such as The Club of Rome’s 1972 report The Limits of Growth, whose dire predictions of Malthusian catastrophe have largely failed to materialize.

In an article recently published in the George Mason Law Review, we argue that contemporary antitrust scholarship and commentary is similarly afflicted by dystopian thinking. In that respect, today’s antitrust pessimists have set their sights predominantly on the digital economy—”Big Tech” and “Big Data”—in the process of alleging a vast array of potential harms.

Scholars have notably argued that the data created and employed by the digital economy produces network effects that inevitably lead to tipping and to more concentrated markets (e.g., here and here). In other words, firms will allegedly accumulate insurmountable data advantages and thus thwart competitors for extended periods of time.

Some have gone so far as to argue that this threatens the very fabric of western democracy. For instance, parallels between the novel Nineteen Eighty-Four and the power of large digital platforms were plain to see when Epic Games launched an antitrust suit against Apple and its App Store in August 2020. The gaming company released a short video clip parodying Apple’s famous “1984” ad (which, upon its release, was itself widely seen as a critique of the tech incumbents of the time). Similarly, a piece in the New Statesman—titled “Slouching Towards Dystopia: The Rise of Surveillance Capitalism and the Death of Privacy”—concluded that:

Our lives and behaviour have been turned into profit for the Big Tech giants—and we meekly click ‘Accept.’ How did we sleepwalk into a world without privacy?

In our article, we argue that these fears are symptomatic of two different but complementary phenomena, which we refer to as “Antitrust Dystopia” and “Antitrust Nostalgia.”

Antitrust Dystopia is the pessimistic tendency among competition scholars and enforcers to assert that novel business conduct will cause technological advances to have unprecedented, anticompetitive consequences. This is almost always grounded in the belief that “this time is different”—that, despite the benign or positive consequences of previous, similar technological advances, this time those advances will have dire, adverse consequences absent enforcement to stave off abuse.

Antitrust Nostalgia is the biased assumption—often built into antitrust doctrine itself—that change is bad. Antitrust Nostalgia holds that, because a business practice has seemingly benefited competition before, changing it will harm competition going forward. Thus, antitrust enforcement is often skeptical of, and triggered by, various deviations from status quo conduct and relationships (i.e., “nonstandard” business arrangements) when change is, to a first approximation, the hallmark of competition itself.

Our article argues that these two worldviews are premised on particularly questionable assumptions about the way competition unfolds, in this case, in data-intensive markets.

The Case of Big Data Competition

The notion that digital markets are inherently more problematic than their brick-and-mortar counterparts—if there even is a meaningful distinction—is advanced routinely by policymakers, journalists, and other observers. The fear is that, left to their own devices, today’s dominant digital platforms will become all-powerful, protected by an impregnable “data barrier to entry.” Against this alarmist backdrop, nostalgic antitrust scholars have argued for aggressive antitrust intervention against the nonstandard business models and contractual arrangements that characterize these markets.

But as our paper demonstrates, a proper assessment of the attributes of data-intensive digital markets does not support either the dire claims or the proposed interventions.

Data is information

One of the most salient features of the data created and consumed by online firms is that, jargon aside, it is just information. As with other types of information, it thus tends to have at least some traits usually associated with public goods (i.e., goods that are non-rivalrous in consumption and not readily excludable). As the National Bureau of Economic Research’s Catherine Tucker argues, data “has near-zero marginal cost of production and distribution even over long distances,” making it very difficult to exclude others from accessing it. Meanwhile, multiple economic agents can simultaneously use the same data, making it non-rivalrous in consumption.

As we explain in our paper, these features make the nature of modern data almost irreconcilable with the alleged hoarding and dominance that critics routinely associate with the tech industry.

2. Data is not scarce; expertise is

Another important feature of data is that it is ubiquitous. The predominant challenge for firms is not so much in obtaining data but, rather, in drawing useful insights from it. This has two important implications for antitrust policy.

First, although data does not have the self-reinforcing characteristics of network effects, there is a sense that acquiring a certain amount of data and expertise is necessary to compete in data-heavy industries. It is (or should be) equally apparent, however, that this “learning by doing” advantage rapidly reaches a point of diminishing returns.

This is supported by significant empirical evidence. As our survey of the empirical literature shows, data generally entails diminishing marginal returns:

Second, it is firms’ capabilities, rather than the data they own, that lead to success in the marketplace. Critics who argue that firms such as Amazon, Google, and Facebook are successful because of their superior access to data might, in fact, have the causality in reverse. Arguably, it is because these firms have come up with successful industry-defining paradigms that they have amassed so much data, and not the other way around.

This dynamic can be seen at play in the early days of the search-engine market. In 2013, The Atlantic ran a piece titled “What the Web Looked Like Before Google.” By comparing the websites of Google and its rivals in 1998 (when Google Search was launched), the article shows how the current champion of search marked a radical departure from the status quo.

Even if it stumbled upon it by chance, Google immediately identified a winning formula for the search-engine market. It ditched the complicated classification schemes favored by its rivals and opted, instead, for a clean page with a single search box. This ensured that users could access the information they desired in the shortest possible amount of time—thanks, in part, to Google’s PageRank algorithm.

It is hardly surprising that Google’s rivals struggled to keep up with this shift in the search-engine industry. The theory of dynamic capabilities tells us that firms that have achieved success by indexing the web will struggle when the market rapidly moves toward a new paradigm (in this case, Google’s single search box and ten blue links). During the time it took these rivals to identify their weaknesses and repurpose their assets, Google kept on making successful decisions: notably, the introduction of Gmail, its acquisitions of YouTube and Android, and the introduction of Google Maps, among others.

Seen from this evolutionary perspective, Google thrived because its capabilities were perfect for the market at that time, while rivals were ill-adapted.

3. Data as a byproduct of, and path to, platform monetization

Policymakers should also bear in mind that platforms often must go to great lengths in order to create data about their users—data that these same users often do not know about themselves. Under this framing, data is a byproduct of firms’ activity, rather than an input necessary for rivals to launch a business.

This is especially clear when one looks at the formative years of numerous online platforms. Most of the time, these businesses were started by entrepreneurs who did not own much data but, instead, had a brilliant idea for a service that consumers would value. Even if data ultimately played a role in the monetization of these platforms, it does not appear that it was necessary for their creation.

Data often becomes significant only at a relatively late stage in these businesses’ development. A quick glance at the digital economy is particularly revealing in this regard. Google and Facebook, in particular, both launched their platforms under the assumption that building a successful product would eventually lead to significant revenues.

It took five years from its launch for Facebook to start making a profit. Even at that point, when the platform had 300 million users, it still was not entirely clear whether it would generate most of its income from app sales or online advertisements. It was another three years before Facebook started to cement its position as one of the world’s leading providers of online ads. During this eight-year timespan, Facebook prioritized user growth over the monetization of its platform. The company appears to have concluded (correctly, it turns out) that once its platform attracted enough users, it would surely find a way to make itself highly profitable.

This might explain how Facebook managed to build a highly successful platform despite a large data disadvantage when compared to rivals like MySpace. And Facebook is no outlier. The list of companies that prevailed despite starting with little to no data (and initially lacking a data-dependent monetization strategy) is lengthy. Other examples include TikTok, Airbnb, Amazon, Twitter, PayPal, Snapchat, and Uber.

Those who complain about the unassailable competitive advantages enjoyed by companies with troves of data have it exactly backward. Companies need to innovate to attract consumer data or else consumers will switch to competitors, including both new entrants and established incumbents. As a result, the desire to make use of more and better data drives competitive innovation, with manifestly impressive results. The continued explosion of new products, services, and apps is evidence that data is not a bottleneck to competition, but a spur to drive it.

We’ve Been Here Before: The Microsoft Antitrust Saga

Dystopian and nostalgic discussions concerning the power of successful technology firms are nothing new. Throughout recent history, there have been repeated calls for antitrust authorities to reign in these large companies. These calls for regulation have often led to increased antitrust scrutiny of some form. The Microsoft antitrust cases—which ran from the 1990s to the early 2010s on both sides of the Atlantic—offer a good illustration of the misguided “Antitrust Dystopia.”

In the mid-1990s, Microsoft was one of the most successful and vilified companies in America. After it obtained a commanding position in the desktop operating system market, the company sought to establish a foothold in the burgeoning markets that were developing around the Windows platform (many of which were driven by the emergence of the Internet). These included the Internet browser and media-player markets.

The business tactics employed by Microsoft to execute this transition quickly drew the ire of the press and rival firms, ultimately landing Microsoft in hot water with antitrust authorities on both sides of the Atlantic.

However, as we show in our article, though there were numerous calls for authorities to adopt a precautionary principle-type approach to dealing with Microsoft—and antitrust enforcers were more than receptive to these calls—critics’ worst fears never came to be.

This positive outcome is unlikely to be the result of the antitrust cases that were brought against Microsoft. In other words, the markets in which Microsoft operated seem to have self-corrected (or were misapprehended as competitively constrained) and, today, are generally seen as being unproblematic.

This is not to say that antitrust interventions against Microsoft were necessarily misguided. Instead, our critical point is that commentators and antitrust decisionmakers routinely overlooked or misinterpreted the existing and nonstandard market dynamics that ultimately prevented the worst anticompetitive outcomes from materializing. This is supported by several key factors.

First, the remedies that were imposed against Microsoft by antitrust authorities on both sides of the Atlantic were ultimately quite weak. It is thus unlikely that these remedies, by themselves, prevented Microsoft from dominating its competitors in adjacent markets.

Note that, if this assertion is wrong, and antitrust enforcement did indeed prevent Microsoft from dominating online markets, then there is arguably no need to reform the antitrust laws on either side of the Atlantic, nor even to adopt a particularly aggressive enforcement position. The remedies that were imposed on Microsoft were relatively localized. Accordingly, if antitrust enforcement did indeed prevent Microsoft from dominating other online markets, then it is antitrust enforcement’s deterrent effect that is to thank, and not the remedies actually imposed.

Second, Microsoft lost its bottleneck position. One of the biggest changes that took place in the digital space was the emergence of alternative platforms through which consumers could access the Internet. Indeed, as recently as January 2009, roughly 94% of all Internet traffic came from Windows-based computers. Just over a decade later, this number has fallen to about 31%. Android, iOS, and OS X have shares of roughly 41%, 16%, and 7%, respectively. Consumers can thus access the web via numerous platforms. The emergence of these alternatives reduced the extent to which Microsoft could use its bottleneck position to force its services on consumers in online markets.

Third, it is possible that Microsoft’s own behavior ultimately sowed the seeds of its relative demise. In particular, the alleged barriers to entry (rooted in nostalgic market definitions and skeptical analysis of “ununderstandable” conduct) that were essential to establishing the antitrust case against the company may have been pathways to entry as much as barriers.

Consider this error in the Microsoft court’s analysis of entry barriers: the court pointed out that new entrants faced a barrier that Microsoft didn’t face, in that Microsoft didn’t have to contend with a powerful incumbent impeding its entry by tying up application developers.

But while this may be true, Microsoft did face the absence of any developers at all, and had to essentially create (or encourage the creation of) businesses that didn’t previously exist. Microsoft thus created a huge positive externality for new entrants: existing knowledge and organizations devoted to software development, industry knowledge, reputation, awareness, and incentives for schools to offer courses. It could well be that new entrants, in fact, faced lower barriers with respect to app developers than did Microsoft when it entered.

In short, new entrants may face even more welcoming environments because of incumbents. This enabled Microsoft’s rivals to thrive.

Conclusion

Dystopian antitrust prophecies are generally doomed to fail, just like those belonging to the literary world. The reason is simple. While it is easy to identify what makes dominant firms successful in the present (i.e., what enables them to hold off competitors in the short term), it is almost impossible to conceive of the myriad ways in which the market could adapt. Indeed, it is today’s supra-competitive profits that spur the efforts of competitors.

Surmising that the economy will come to be dominated by a small number of successful firms is thus the same as believing that all market participants can be outsmarted by a few successful ones. This might occur in some cases or for some period of time, but as our article argues, it is bound to happen far less often than pessimists fear.

In short, dystopian scholars have not successfully made the case for precautionary antitrust. Indeed, the economic features of data make it highly unlikely that today’s tech giants could anticompetitively maintain their advantage for an indefinite amount of time, much less leverage this advantage in adjacent markets.

With this in mind, there is one dystopian novel that offers a fitting metaphor to end this Article. The Man in the High Castle tells the story of an alternate present, where Axis forces triumphed over the Allies during the second World War. This turns the dystopia genre on its head: rather than argue that the world is inevitably sliding towards a dark future, The Man in the High Castle posits that the present could be far worse than it is.

In other words, we should not take any of the luxuries we currently enjoy for granted. In the world of antitrust, critics routinely overlook that the emergence of today’s tech industry might have occurred thanks to, and not in spite of, existing antitrust doctrine. Changes to existing antitrust law should thus be dictated by a rigorous assessment of the various costs and benefits they would entail, rather than a litany of hypothetical concerns. The most recent wave of calls for antitrust reform have so far failed to clear this low bar.

Antitrustifying Contract: Thoughts on Epic Games v. Apple and Apple v. Qualcomm

Jonathan M. Barnett — 26 October 2020

In the hands of a wise philosopher-king, the Sherman Act’s hard-to-define prohibitions of “restraints of trade” and “monopolization” are tools that will operate inevitably to advance the public interest in competitive markets. In the hands of real-world litigators, regulators and judges, those same words can operate to advance competitors’ private interests in securing commercial advantages through litigation that could not be secured through competition in the marketplace. If successful, this strategy may yield outcomes that run counter to antitrust law’s very purpose.

The antitrust lawsuit filed by Epic Games against Apple in August 2020, and Apple’s antitrust lawsuit against Qualcomm (settled in April 2019), suggest that antitrust law is heading in this unfortunate direction.

From rent-minimization to rent-maximization

The first step in converting antitrust law from an instrument to minimize rents to an instrument to maximize rents lies in expanding the statute’s field of application on the apparently uncontroversial grounds of advancing the public interest in “vigorous” enforcement. In surprisingly short order, this largely unbounded vision of antitrust’s proper scope has become the dominant fashion in policy discussions, at least as expressed by some legislators, regulators, and commentators.

Following the new conventional wisdom, antitrust law has pursued over the past decades an overly narrow path, consequently overlooking and exacerbating a panoply of social ills that extend well beyond the mission to “merely” protect the operation of the market pricing mechanism. This line of argument is typically coupled with the assertion that courts, regulators and scholars have been led down this path by incumbents that welcome the relaxed scrutiny of a purportedly deferential antitrust policy.

This argument, and related theory of regulatory capture, has things roughly backwards.

Placing antitrust law at the service of a largely undefined range of social purposes set by judicial and regulatory fiat threatens to render antitrust a tool that can be easily deployed to favor the private interests of competitors rather than the public interest in competition. Without the intellectual discipline imposed by the consumer welfare standard (and, outside of per se illegal restraints, operationalized through the evidentiary requirement of competitive harm), the rhetoric of antitrust provides excellent cover for efforts to re-engineer the rules of the game in lieu of seeking to win the game as it has been played.

Epic Games v. Apple

A nascent symptom of this expansive form of antitrust is provided by the much-publicized lawsuit brought by Epic Games, the maker of the wildly popular video game, Fortnite, against Apple, the operator of the even more wildly popular App Store. On August 13, 2020, Epic added a “direct” payment processing services option to its Fortnite game, which violated the developer terms of use that govern the App Store. In response, Apple exercised its contractual right to remove Fortnite from the App Store, triggering Fortnite’s antitrust suit. The same sequence has ensued between Epic Games and Google in connection with the Google Play Store. Both litigations are best understood as a breach of contract dispute cloaked in the guise of an antitrust cause of action.

In suggesting that a jury trial would be appropriate in Epic Games’ suit against Apple, the district court judge reportedly stated that the case is “on the frontier of antitrust law” and [i]t is important enough to understand what real people think.” That statement seems to suggest that this is a close case under antitrust law. I respectfully disagree. Based on currently available information and applicable law, Epic’s argument suffers from two serious vulnerabilities that would seem to be difficult for the plaintiff to overcome.

A contestably narrow market definition

Epic states three related claims: (1) Apple has a monopoly in the relevant market, defined as the App Store, (2) Apple maintains its monopoly by contractually precluding developers from distributing iOS-compatible versions of their apps outside the App Store, and (3) Apple maintains a related monopoly in the payment processing services market for the App Store by contractually requiring developers to use Apple’s processing service.

This market definition, and the associated chain of reasoning, is subject to significant doubt, both as a legal and factual matter.

Epic’s narrow definition of the relevant market as the App Store (rather than app distribution platforms generally) conveniently results in a 100% market share for Apple. Inconveniently, federal case law is generally reluctant to adopt single-brand market definitions. While the Supreme Court recognized in 1992 a single-brand market in Eastman Kodak Co. v. Image Technical Services, the case is widely considered to be an outlier in light of subsequent case law. As a federal district court observed in Spahr v. Leegin Creative Leather Products (E.D. Tenn. 2008): “Courts have consistently refused to consider one brand to be a relevant market of its own when the brand competes with other potential substitutes.”

The App Store would seem to fall into this typical category. The customer base of existing and new Fortnite users can still accessthe gamethrough multiple platforms and on multiple devices other than the iPhone, including a PC, laptop, game console, and non-Apple mobile devices. (While Google has also removed Fortnite from the Google Play store due to the added direct payment feature, users can, at some inconvenience, access the game manually on Android phones.)

Given these alternative distribution channels, it is at a minimum unclear whether Epic is foreclosed from reaching a substantial portion of its consumer base, which may already access the game on alternative platforms or could potentially do so at moderate incremental transaction costs. In the language of platform economics, it appears to be technologically and economically feasible for the target consumer base to “multi-home.” If multi-homing and related switching costs are low, even a 100% share of the App Store submarket would not translate into market power in the broader and potentially more economically relevant market for app distribution generally.

An implausible theory of platform lock-in

Even if it were conceded that the App Store is the relevant market, Epic’s claim is not especially persuasive, both as an economic and a legal matter. That is because there is no evidence that Apple is exploiting any such hypothetically attributed market power to increase the rents extracted from developers and indirectly impose deadweight losses on consumers.

In the classic scenario of platform lock-in, a three-step sequence is observed: (1) a new firm acquires a high market share in a race for platform dominance, (2) the platform winner is protected by network effects and switching costs, and (3) the entrenched platform “exploits” consumers by inflating prices (or imposing other adverse terms) to capture monopoly rents. This economic model is reflected in the case law on lock-in claims, which typically requires that the plaintiff identify an adverse change by the defendant in pricing or other terms after users were allegedly locked-in.

The history of the App Store does not conform to this model. Apple has always assessed a 30% fee and the same is true of every other leading distributor of games for the mobile and PC market, including Google Play Store, App Store’s rival in the mobile market, and Steam, the dominant distributor of video games in the PC market. This long-standing market practice suggests that the 30% fee is most likely motivated by an efficiency-driven business motivation, rather than seeking to entrench a monopoly position that Apple did not enjoy when the practice was first adopted. That is: even if Apple is deemed to be a “monopolist” for Section 2 purposes, it is not taking any “illegitimate” actions that could constitute monopolization or attempted monopolization.

The logic of the 70/30 split

Uncovering the business logic behind the 70/30 split in the app distribution market is not too difficult.

The 30% fee appears to be a low transaction-cost practice that enables the distributor to fund a variety of services, including app development tools, marketing support, and security and privacy protections, all of which are supplied at no separately priced fee and therefore do not require service-by-service negotiation and renegotiation. The same rationale credibly applies to the integrated payment processing services that Apple supplies for purposes of in-app purchases.

These services deliver significant value and would otherwise be difficult to replicate cost-effectively, protect the App Store’s valuable stock of brand capital (which yields positive spillovers for app developers on the site), and lower the costs of joining and participating in the App Store. Additionally, the 30% fee cross-subsidizes the delivery of these services to the approximately 80% of apps on the App Store that are ad-based and for which no fee is assessed, which in turn lowers entry costs and expands the number and variety of product options for platform users. These would all seem to be attractive outcomes from a competition policy perspective.

Epic’s objection

Epic would object to this line of argument by observing that it only charges a 12% fee to distribute other developers’ games on its own Epic Games Store.

Yet Epic’s lower fee is reportedly conditioned, at least in some cases, on the developer offering the game exclusively on the Epic Games Store for a certain period of time. Moreover, the services provided on the Epic Games Store may not be comparable to the extensive suite of services provided on the App Store and other leading distributors that follow the 30% standard. Additionally, the user base a developer can expect to access through the Epic Games Store is in all likelihood substantially smaller than the audience that can be reached through the App Store and other leading app and game distributors, which is then reflected in the higher fees charged by those platforms.

Hence, even the large fee differential may simply reflect the higher services and larger audiences available on the App Store, Google Play Store and other leading platforms, as compared to the Epic Games Store, rather than the unilateral extraction of market rents at developers’ and consumers’ expense.

Antitrust is about efficiency, not distribution

Epic says the standard 70/30 split between game publishers and app distributors is “excessive” while others argue that it is historically outdated.

Neither of these are credible antitrust arguments. Renegotiating the division of economic surplus between game suppliers and distributors is not the concern of antitrust law, which (as properly defined) should only take an interest if either (i) Apple is colluding on the 30% fee with other app distributors, or (ii) Apple is taking steps that preclude entry into the apps distribution market and lack any legitimate business justification. No one claims evidence for the former possibility and, without further evidence, the latter possibility is not especially compelling given the uniform use of the 70/30 split across the industry (which, as noted, can be derived from a related set of credible efficiency justifications). It is even less compelling in the face of evidence that output is rapidly accelerating, not declining, in the gaming app market: in the first half of 2020, approximately 24,500 new games were added to the App Store.

If this conclusion is right, then Epic’s lawsuit against Apple does not seem to have much to do with the public interest in preserving market competition.

But it clearly has much to do with the business interest of an input supplier in minimizing its distribution costs and maximizing its profit margin. That category includes not only Epic Games but Tencent, the world’s largest video game publisher and the holder of a 40% equity stake in Epic. Tencent also owns Riot Games (the publisher of “League of Legends”), an 84% stake in Supercell (the publisher of “Clash of Clans”), and a 5% stake in Activision Blizzard (the publisher of “Call of Duty”). It is unclear how an antitrust claim that, if successful, would simply redistribute economic value from leading game distributors to leading game developers has any necessary relevance to antitrust’s objective to promote consumer welfare.

The prequel: Apple v. Qualcomm

Ironically (and, as Dirk Auer has similarly observed), there is a symmetry between Epic’s claims against Apple and the claims previously pursued by Apple (and, concurrently, the Federal Trade Commission) against Qualcomm.

In that litigation, Apple contested the terms of the licensing arrangements under which Qualcomm made available its wireless communications patents to Apple (more precisely, Foxconn, Apple’s contract manufacturer), arguing that the terms were incompatible with Qualcomm’s commitment to “fair, reasonable and nondiscriminatory” (“FRAND”) licensing of its “standard-essential” patents (“SEPs”). Like Epic v. Apple, Apple v. Qualcomm was fundamentally a contract dispute, with the difference that Apple was in the position of a third-party beneficiary of the commitment that Qualcomm had made to the governing standard-setting organization. Like Epic, Apple sought to recharacterize this contractual dispute as an antitrust question, arguing that Qualcomm’s licensing practices constituted anticompetitive actions to “monopolize” the market for smartphone modem chipsets.

Theory meets evidence

The rhetoric used by Epic in its complaint echoes the rhetoric used by Apple in its briefs and other filings in the Qualcomm litigation. Apple (like the FTC) had argued that Qualcomm imposed a “tax” on competitors by requiring that any purchaser of Qualcomm’s chipsets concurrently enter into a license for Qualcomm’s SEP portfolio relating to 3G and 4G/LTE-enabled mobile communications devices.

Yet the history and performance of the mobile communications market simply did not track Apple’s (and the FTC’s continuing) characterization of Qualcomm’s licensing fee as a socially costly drag on market growth and, by implication, consumer welfare.

If this assertion had merit, then the decades-old wireless market should have exhibited a dismal history of increasing prices, slow user adoption and lagging innovation. In actuality, the wireless market since its inception has grown relentlessly, characterized by declining quality-adjusted prices, expanding output, relentless innovation, and rapid adoption across a broad range of income segments.

Given this compelling real-world evidence, the only remaining line of argument (still being pursued by the FTC) that could justify antitrust intervention is a theoretical conjecture that the wireless market might have grown even faster under some alternative IP licensing arrangement. This assertion rests precariously on the speculative assumption that any such arrangement would have induced the same or higher level of aggregate investment in innovation and commercialization activities. That fragile chain of “what if” arguments hardly seems a sound basis on which to rewrite the legal infrastructure behind the billions of dollars of licensing transactions that support the economically thriving smartphone market and the even larger ecosystem that has grown around it.

Antitrust litigation as business strategy

Given the absence of compelling evidence of competitive harm from Qualcomm’s allegedly anticompetitive licensing practices, Apple’s litigation would seem to be best interpreted as an economically rational attempt by a downstream producer to renegotiate a downward adjustment in the fees paid to an upstream supplier of critical technology inputs. (In fact, those are precisely the terms on which Qualcomm in 2015 settled the antitrust action brought against it by China’s competition regulator, to the obvious benefit of local device producers.) The Epic Games litigation is a mirror image fact pattern in which an upstream supplier of content inputs seeks to deploy antitrust law strategically for the purposes of minimizing the fees it pays to a leading downstream distributor.

Both litigations suffer from the same flaw. Private interests concerning the division of an existing economic value stream—a business question that is matter of indifference from an efficiency perspective—are erroneously (or, at least, reflexively) conflated with the public interest in preserving the free play of competitive forces that maximizes the size of the economic value stream.

Conclusion: Remaking the case for “narrow” antitrust

The Epic v. Apple and Apple v. Qualcomm disputes illustrate the unproductive rent-seeking outcomes to which antitrust law will inevitably be led if, as is being widely advocated, it is decoupled from its well-established foundation in promoting consumer welfare—and not competitor welfare.

Some proponents of a more expansive approach to antitrust enforcement are convinced that expanding the law’s scope of application will improve market efficiency by providing greater latitude for expert regulators and courts to reengineer market structures to the public benefit. Yet any substitution of top-down expert wisdom for the bottom-up trial-and-error process of market competition can easily yield “false positives” in which courts and regulators take actions that counterproductively intervene in markets that are already operating under reasonably competitive conditions. Additionally, an overly expansive approach toward the scope of antitrust law will induce private firms to shift resources toward securing advantages over competitors through lobbying and litigation, rather than seeking to win the race to deliver lower-cost and higher-quality products and services. Neither outcome promotes the public’s interest in a competitive marketplace.

In the Fight Against Qualcomm, Apple’s Loss is Apple’s Gain

Dirk Auer — 22 September 2020

Apple’s legal team will be relieved that “you reap what you sow” is just a proverb. After a long-running antitrust battle against Qualcomm unsurprisingly ended in failure, Apple now faces antitrust accusations of its own (most notably from Epic Games). Somewhat paradoxically, this turn of events might cause Apple to see its previous defeat in a new light. Indeed, the well-established antitrust principles that scuppered Apple’s challenge against Qualcomm will now be the rock upon which it builds its legal defense.

But while Apple’s reversal of fortunes might seem anecdotal, it neatly illustrates a fundamental – and often overlooked – principle of antitrust policy: Antitrust law is about maximizing consumer welfare. Accordingly, the allocation of surplus between two companies is only incidentally relevant to antitrust proceedings, and it certainly is not a goal in and of itself. In other words, antitrust law is not about protecting David from Goliath.

Jockeying over the distribution of surplus

Or at least that is the theory. In practice, however, most antitrust cases are but small parts of much wider battles where corporations use courts and regulators in order to jockey for market position and/or tilt the distribution of surplus in their favor. The Microsoft competition suits brought by the DOJ and the European commission (in the EU and US) partly originated from complaints, and lobbying, by Sun Microsystems, Novell, and Netscape. Likewise, the European Commission’s case against Google was prompted by accusations from Microsoft and Oracle, among others. The European Intel case was initiated following a complaint by AMD. The list goes on.

The last couple of years have witnessed a proliferation of antitrust suits that are emblematic of this type of power tussle. For instance, Apple has been notoriously industrious in using the court system to lower the royalties that it pays to Qualcomm for LTE chips. One of the focal points of Apple’s discontent was Qualcomm’s policy of basing royalties on the end-price of devices (Qualcomm charged iPhone manufacturers a 5% royalty rate on their handset sales – and Apple received further rebates):

“The whole idea of a percentage of the cost of the phone didn’t make sense to us,” [Apple COO Jeff Williams] said. “It struck at our very core of fairness. At the time we were making something really really different.”

This pricing dispute not only gave rise to high-profile court cases, it also led Apple to lobby Standard Developing Organizations (“SDOs”) in a partly successful attempt to make them amend their patent policies, so as to prevent this type of pricing.

However, in a highly ironic turn of events, Apple now finds itself on the receiving end of strikingly similar allegations. At issue is the 30% commission that Apple charges for in app purchases on the iPhone and iPad. These “high” commissions led several companies to lodge complaints with competition authorities (Spotify and Facebook, in the EU) and file antitrust suits against Apple (Epic Games, in the US).

Of course, these complaints are couched in more sophisticated, and antitrust-relevant, reasoning. But that doesn’t alter the fact that these disputes are ultimately driven by firms trying to tilt the allocation of surplus in their favor (for a more detailed explanation, see Apple and Qualcomm).

Pushback from courts: The Qualcomm case

Against this backdrop, a string of recent cases sends a clear message to would-be plaintiffs: antitrust courts will not be drawn into rent allocation disputes that have no bearing on consumer welfare.

The best example of this judicial trend is Qualcomm’s victory before the United States Court of Appeal for the 9th Circuit. The case centered on the royalties that Qualcomm charged to OEMs for its Standard Essential Patents (SEPs). Both the district court and the FTC found that Qualcomm had deployed a series of tactics (rebates, refusals to deal, etc) that enabled it to circumvent its FRAND pledges.

However, the Court of Appeal was not convinced. It failed to find any consumer harm, or recognizable antitrust infringement. Instead, it held that the dispute at hand was essentially a matter of contract law:

To the extent Qualcomm has breached any of its FRAND commitments, a conclusion we need not and do not reach, the remedy for such a breach lies in contract and patent law.

This is not surprising. From the outset, numerous critics pointed that the case lied well beyond the narrow confines of antitrust law. The scathing dissenting statement written by Commissioner Maureen Olhaussen is revealing:

[I]n the Commission’s 2-1 decision to sue Qualcomm, I face an extraordinary situation: an enforcement action based on a flawed legal theory (including a standalone Section 5 count) that lacks economic and evidentiary support, that was brought on the eve of a new presidential administration, and that, by its mere issuance, will undermine U.S. intellectual property rights in Asia and worldwide. These extreme circumstances compel me to voice my objections.

In reaching its conclusion, the Court notably rejected the notion that SEP royalties should be systematically based upon the “Smallest Saleable Patent Practicing Unit” (or SSPPU):

Even if we accept that the modem chip in a cellphone is the cellphone’s SSPPU, the district court’s analysis is still fundamentally flawed. No court has held that the SSPPU concept is a per se rule for “reasonable royalty” calculations; instead, the concept is used as a tool in jury cases to minimize potential jury confusion when the jury is weighing complex expert testimony about patent damages.

Similarly, it saw no objection to Qualcomm licensing its technology at the OEM level (rather than the component level):

Qualcomm’s rationale for “switching” to OEM-level licensing was not “to sacrifice short-term benefits in order to obtain higher profits in the long run from the exclusion of competition,” the second element of the Aspen Skiing exception. Aerotec Int’l, 836 F.3d at 1184 (internal quotation marks and citation omitted). Instead, Qualcomm responded to the change in patent-exhaustion law by choosing the path that was “far more lucrative,” both in the short term and the long term, regardless of any impacts on competition.

Finally, the Court concluded that a firm breaching its FRAND pledges did not automatically amount to anticompetitive conduct:

We decline to adopt a theory of antitrust liability that would presume anticompetitive conduct any time a company could not prove that the “fair value” of its SEP portfolios corresponds to the prices the market appears willing to pay for those SEPs in the form of licensing royalty rates.

Taken together, these findings paint a very clear picture. The Qualcomm Court repeatedly rejected the radical idea that US antitrust law should concern itself with the prices charged by monopolists — as opposed to practices that allow firms to illegally acquire or maintain a monopoly position. The words of Learned Hand and those of Antonin Scalia (respectively, below) loom large:

The successful competitor, having been urged to compete, must not be turned upon when he wins.

And,

To safeguard the incentive to innovate, the possession of monopoly power will not be found unlawful unless it is accompanied by an element of anticompetitive conduct.

Other courts (both in the US and abroad) have reached similar conclusions

For instance, a district court in Texas dismissed a suit brought by Continental Automotive Systems (which supplies electronic systems to the automotive industry) against a group of SEP holders.

Continental challenged the patent holders’ decision to license their technology at the vehicle rather than component level (the allegation is very similar to the FTC’s complaint that Qualcomm licensed its SEPs at the OEM, rather than chipset level). However, following a forceful intervention by the DOJ, the Court ultimately held that the facts alleged by Continental were not indicative of antitrust injury. It thus dismissed the case.

Likewise, within weeks of the Qualcomm and Continental decisions, the UK Supreme court also ruled in favor of SEP holders. In its Unwired Planet ruling, the Court concluded that discriminatory licenses did not automatically infringe competition law (even though they might breach a firm’s contractual obligations):

[I]t cannot be said that there is any general presumption that differential pricing for licensees is problematic in terms of the public or private interests at stake.

In reaching this conclusion, the UK Supreme Court emphasized that the determination of whether licenses were FRAND, or not, was first and foremost a matter of contract law. In the case at hand, the most important guide to making this determination were the internal rules of the relevant SDO (as opposed to competition case law):

Since price discrimination is the norm as a matter of licensing practice and may promote objectives which the ETSI regime is intended to promote (such as innovation and consumer welfare), it would have required far clearer language in the ETSI FRAND undertaking to indicate an intention to impose the more strict, “hard-edged” non-discrimination obligation for which Huawei contends. Further, in view of the prevalence of competition laws in the major economies around the world, it is to be expected that any anti-competitive effects from differential pricing would be most appropriately addressed by those laws.

All of this ultimately led the Court to rule in favor of Unwired Planet, thus dismissing Huawei’s claims that it had infringed competition law by breaching its FRAND pledges.

In short, courts and antitrust authorities on both sides of the Atlantic have repeatedly, and unambiguously, concluded that pricing disputes (albeit in the specific context of technological standards) are generally a matter of contract law. Antitrust/competition law intercedes only when unfair/excessive/discriminatory prices are both caused by anticompetitive behavior and result in anticompetitive injury.

Apple’s Loss is… Apple’s gain.

Readers might wonder how the above cases relate to Apple’s app store. But, on closer inspection the parallels are numerous. As explained above, courts have repeatedly stressed that antitrust enforcement should not concern itself with the allocation of surplus between commercial partners. Yet that is precisely what Epic Game’s suit against Apple is all about.

Indeed, Epic’s central claim is not that it is somehow foreclosed from Apple’s App Store (for example, because Apple might have agreed to exclusively distribute the games of one of Epic’s rivals). Instead, all of its objections are down to the fact that it would like to access Apple’s store under more favorable terms:

Apple’s conduct denies developers the choice of how best to distribute their apps. Developers are barred from reaching over one billion iOS users unless they go through Apple’s App Store, and on Apple’s terms. […]
Thus, developers are dependent on Apple’s noblesse oblige, as Apple may deny access to the App Store, change the terms of access, or alter the tax it imposes on developers, all in its sole discretion and on the commercially devastating threat of the developer losing access to the entire iOS userbase. […]
By imposing its 30% tax, Apple necessarily forces developers to suffer lower profits, reduce the quantity or quality of their apps, raise prices to consumers, or some combination of the three.

And the parallels with the Qualcomm litigation do not stop there. Epic is effectively asking courts to make Apple monetize its platform at a different level than the one that it chose to maximize its profits (no more monetization at the app store level). Similarly, Epic Games omits any suggestion of profit sacrifice on the part of Apple — even though it is a critical element of most unilateral conduct theories of harm. Finally, Epic is challenging conduct that is both the industry norm and emerged in a highly competitive setting.

In short, all of Epic’s allegations are about monopoly prices, not monopoly maintenance or monopolization. Accordingly, just as the SEP cases discussed above were plainly beyond the outer bounds of antitrust enforcement (something that the DOJ repeatedly stressed with regard to the Qualcomm case), so too is the current wave of antitrust litigation against Apple. When all is said and done, Apple might thus be relieved that Qualcomm was victorious in their antitrust confrontation. Indeed, the legal principles that caused its demise against Qualcomm are precisely the ones that will, likely, enable it to prevail against Epic Games.

Truth on the Market

Archives For Epic v. Apple

Assessing Less Restrictive Alternatives and Interbrand Competition in Epic v Apple

Introduction

Competitive Effects in Two-Sided Markets

Less Restrictive Alternatives and the Rule of Reason

Open Platforms Are not Necessarily Less Restrictive Platforms

Conclusion

Amici Scholars Signing on to the Brief

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In Apple v Epic, 9th Circuit Should Remember that Antitrust Forbids Enhancing, not Exercising, Market Power

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Mandatory Interoperability Is Not a ‘Super Tool’ for Platform Competition

Why Isn’t Everything Interoperable?

Interoperability for Digital Platforms

Interoperability and Contact-Tracing Apps

A ‘Super Tool’ for Digital Market Intervention?

If You Build It, They Still Might Not Come

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Antitrust Dystopia and Antitrust Nostalgia

The Case of Big Data Competition

We’ve Been Here Before: The Microsoft Antitrust Saga

Conclusion

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Antitrustifying Contract: Thoughts on Epic Games v. Apple and Apple v. Qualcomm

From rent-minimization to rent-maximization

Epic Games v. Apple

A contestably narrow market definition

An implausible theory of platform lock-in

The logic of the 70/30 split

Epic’s objection

Antitrust is about efficiency, not distribution

The prequel: Apple v. Qualcomm

Theory meets evidence

Antitrust litigation as business strategy

Conclusion: Remaking the case for “narrow” antitrust

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In the Fight Against Qualcomm, Apple’s Loss is Apple’s Gain

<img data-lazy-fallback="1" decoding="async" loading="lazy" src="https://lh6.googleusercontent.com/y8xSUJ4HlkG3rVJaep2YyAooLjTmSrmlYMWf8QNVXrKhYQETmXfmEtngU1mklu265GTj3nAWmELB8-OsZ7f3o8SQEM54jxi1oXsIM0AQXuwEu7jdtbz-uSsK0dNz2wF0Gm03Odpv" width="289" height="289" />

Jockeying over the distribution of surplus

Pushback from courts: The Qualcomm case

Other courts (both in the US and abroad) have reached similar conclusions

Apple’s Loss is… Apple’s gain.

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